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The SVB case is a wake-up call for Europe’s regulators as it demonstrates the destructive power of a bank-run: it undermines the role of loss absorbing capital, elbowing governments to bailout affected banks. Many types of bank management weaknesses, like excessive duration risk, may raise concerns of bank losses – but to serve as a run-trigger, there needs to be a large enough group of bank depositors that fails to be fully covered by a deposit insurance scheme. Latent run-risk is the root cause of inefficient liquidations, and we argue that a run on SVB assets could have been avoided altogether by a more thoughtful deposit insurance scheme, sharply distinguishing between loss absorbing capital (equity plus bail-in debt) and other liabilities which are deemed not to be bail-inable, namely demand deposits. These evidence-based insights have direct implications for Europe’s banking regulation, suggesting a minimum and a maximum for a banks’ loss absorption capacity.
Asset-backed securitisation (ABS) is an asset funding technique that involves the issuance of structured claims on the cash flow performance of a designated pool of underlying receivables. Efficient risk management and asset allocation in this growing segment of fixed income markets requires both investors and issuers to thoroughly understand the longitudinal properties of spread prices. We present a multi-factor GARCH process in order to model the heteroskedasticity of secondary market spreads for valuation and forecasting purposes. In particular, accounting for the variance of errors is instrumental in deriving more accurate estimators of time-varying forecast confidence intervals. On the basis of CDO, MBS and Pfandbrief transactions as the most important asset classes of off-balance sheet and on-balance sheet securitisation in Europe we find that expected spread changes for these asset classes tends to be level stationary with model estimates indicating asymmetric mean reversion. Furthermore, spread volatility (conditional variance) is found to follow an asymmetric stochastic process contingent on the value of past residuals. This ABS spread behaviour implies negative investor sentiment during cyclical downturns, which is likely to escape stationary approximation the longer this market situation lasts.
Evaluating the quality of credit portfolio risk models is an important issue for both banks and regulators. Lopez and Saidenberg (2000) suggest cross-sectional resampling techniques in order to make efficient use of available data. We show that their proposal disregards cross-sectional dependence in resampled portfolios, which renders standard statistical inference invalid. We proceed by suggesting the Berkowitz (1999) procedure, which relies on standard likelihood ratio tests performed on transformed default data. We simulate the power of this approach in various settings including one in which the test is extended to incorporate cross-sectional information. To compare the predictive ability of alternative models, we propose to use either Bonferroni bounds or the likelihood-ratio of the two models. Monte Carlo simulations show that a default history of ten years can be sufficient to resolve uncertainties currently present in credit risk modeling.
Evaluating the quality of credit portfolio risk models is an important question for both banks and regulators. Lopez and Saidenberg (2000) suggest cross-sectional resampling techniques in order to make efficient use of available data and to produce measures of forecast accuracy. We first show that their proposal disregards crosssectional dependence in simulated subportfolios, which renders standard statistical inference invalid. We proceed by suggesting another evaluation methodology which draws on the concept of likelihood ratio tests. Specifically, we compare the predictive quality of alternative models by comparing the probabilities that observed data have been generated by these models. The distribution of the test statistic can be derived through Monte Carlo simulation. To exploit differences in cross-sectional predictions of alternative models, the test can be based on a linear combination of subportfolio statistics. In the construction of the test, the weight of a subportfolio depends on the difference in the loss distributions which alternative models predict for this particular portfolio. This makes efficient use of the data, and reduces computational burden. Monte Carlo simulations suggest that the power of the tests is satisfactory.
JEL classification: G2; G28; C52
We compare the cost effectiveness of two pronatalist policies:
(a) child allowances; and
(b) daycare subsidies.
We pay special attention to estimating how intended fertility (fertility before children are born) responds to these policies. We use two evaluation tools:
(i) a dynamic model on fertility, labor supply, outsourced childcare time, parental time, asset accumulation and consumption; and
(ii) randomized vignette-survey policy experiments.
We implement both tools in the United States and Germany, finding consistent evidence that daycare subsidies are more cost effective. Nevertheless, the required public expenditure to increase fertility to the replacement level might be viewed as prohibitively high.
Under a new Basel capital accord, bank regulators might use quantitative measures when evaluating the eligibility of internal credit rating systems for the internal ratings based approach. Based on data from Deutsche Bundesbank and using a simulation approach, we find that it is possible to identify strongly inferior rating systems out-of time based on statistics that measure either the quality of ranking borrowers from good to bad, or the quality of individual default probability forecasts. Banks do not significantly improve system quality if they use credit scores instead of ratings, or logistic regression default probability estimates instead of historical data. Banks that are not able to discriminate between high- and low-risk borrowers increase their average capital requirements due to the concavity of the capital requirements function.
This paper investigates the accuracy of point and density forecasts of four DSGE models for inflation, output growth and the federal funds rate. Model parameters are estimated and forecasts are derived successively from historical U.S. data vintages synchronized with the Fed’s Greenbook projections. Point forecasts of some models are of similar accuracy as the forecasts of nonstructural large dataset methods. Despite their common underlying New Keynesian modeling philosophy, forecasts of different DSGE models turn out to be quite distinct. Weighted forecasts are more precise than forecasts from individual models. The accuracy of a simple average of DSGE model forecasts is comparable to Greenbook projections for medium term horizons. Comparing density forecasts of DSGE models with the actual distribution of observations shows that the models overestimate uncertainty around point forecasts.
This paper investigates the accuracy of point and density forecasts of four DSGE models for inflation, output growth and the federal funds rate. Model parameters are estimated and forecasts are derived successively from historical U.S. data vintages synchronized with the Fed’s Greenbook projections. Point forecasts of some models are of similar accuracy as the forecasts of nonstructural large dataset methods. Despite their common underlying New Keynesian modeling philosophy, forecasts of different DSGE models turn out to be quite distinct. Weighted forecasts are more precise than forecasts from individual models. The accuracy of a simple average of DSGE model forecasts is comparable to Greenbook projections for medium term horizons. Comparing density forecasts of DSGE models with the actual distribution of observations shows that the models overestimate uncertainty around point forecasts.